Do it yourself

If social media posts are any guide to the popular sentiments, then definitely the Indian equity markets have frustrated even most seasoned investors. In particular, the young investors and traders who had their first tryst with the equity investing/trading are sounding completely disillusioned.

The seasoned investors who have experience of negotiating bear markets multiple times, are mostly frustrated due to the lack of adequate policy support and regulatory overbearance. In my view, insofar as the policy support (or lack of it) is concerned, it is mostly due to misplaced expectations and persistence denial of actual execution. The issue of regulatory overbearance is however a matter of debate.

However, the new class of investors is disillusioned for multiple reasons. First, many of them had committed to investing/trading as their preferred full-time occupation. After this severe market correction, their capital has materially depleted and their confidence is badly shaken. The worst part is that many of them appear clueless as to why the prices of the stocks they own are falling sharply; or why the technical analysis that was working so perfectly for the past four years has suddenly stopped yielding any results.

For the benefit of these investors/traders, I would like to highlight a few points that might help in a slightly better assessment of the current market situation.

FPI selling

This is the single most popular reason cited for the correction in stock prices. For record, as per final SEBI data, since 27 September 2025 (when Nifty 50 recorded its all-time high level of 26277) the foreign portfolio investors (FPIs), have net sold appx Rs2.6 trillion worth of Indian equities on stock exchanges. Adjusted for inflows in the primary market, this net sale number is appx Rs two trillion.

In this period, domestic institutions have net bought over Rs 2.75 trillion worth of equities in the secondary market alone.

The key points that the market participants are missing are—

·         The stock prices at any given point in time are determined by the forces of demand and supply. The net institutional buying (demand) has been positive on almost all days (except 5 days) since 27^th September.

·         Most of the damage has occurred in small and microcap stocks. FPI participation in this segment of the market is usually very low. On the other hand, the domestic mutual funds have the highest amount of asset undermanagement (AUM) in midcap and smallcap categories. Moreover, as per the latest available AMFI data, the retail participation is the highest in the midcap and smallcap categories. So technically, retail investors should be the strongest mover of prices of this category

So, blaming FPI selling for the fall in stock prices may not be justifiable.

Hike in capital gain tax

In the final budget for FY25, the finance minister hiked the long-term capital gains (LTCG) tax to 12.5% (from 10% previously) and short-term capital gains (STCG) tax to 20% (From 15% earlier). Almost every market participant on social media has cited this as one of the primary reasons for the underperformance of the Indian equities in the past 5 months.

In this context, it is important to note that—

·         In the budget for FY19 (presented on 1^st February 2018), the then finance minister had hiked the LTCG from 0% to 10%. After a small correction, one month later in March 2018, the benchmark Nifty was at the pre-budget level and 2x in 30 months (October 2021) despite pandemic related issues. FPIs net sold Rs530 billion worth of Indian equities (secondary market) in 2018, but bought Rs 1720 billion in the subsequent two years.

Obviously a 10x hike in LTCG neither hurt the stock markets nor prevented FPIs from pumping in huge money in the Indian equities. This time the hike is just 25%.

In my view, the reason for the current decline in stock prices is a combination of several factors. Some of these could be listed as follows:

Economic slowdown – the GDP growth is declining for the past few quarters and now appears to be settling in the 6-6.5% range. This is insufficient for sustaining the current level of government spending, which has been a primary driver of growth in the past few years.

Earnings slowdown – The corporate earnings that have been growing at a rate of 18-19% CAGR for the past four years (FY21-FY24), are peaking. FY25 earnings growth is expected to be in low single digits, while next couple of years the earnings are expected to grow at a rate of 10-14% CAGR. These estimates are also subject to downgrade. With lower economic and corporate growth, the European and Chinese equities with much cheaper valuations and stronger growth visibility (assuming peace deal between Russia and Ukraine) become relatively more attractive.

Liquidity squeeze – Covid-19 related fiscal and monetary stimulus resulted in abundant liquidity in the Indian financial system. At peak the banking system liquidity surplus exceeded Rs 10 trillion in September 2021. In April 2022, the RBI accelerated withdrawal of the surplus liquidity, resulting in the widest liquidity deficit of over Rs 3 trillion in January 2024. This massive liquidity squeeze, coupled with fiscal tightening (Fiscal deficit cut from 9.5% in FY21 to 4.8% in FY25RE), and persistent positive real rates have definitely resulted in lower leverage available to traders and punters in the equity markets. Moreover, the regulatory measures to curb excessive speculation (including stricter margin norms and enhanced surveillance measures) also removed a lot of froth from the market.

Unwinding of leverage of market participants and promoters (active in the market) is the primary reason for the fall in stock prices, not the hike in LTCG or selling of FPI.

Fortunately, the regular household flows (SIP and other wise) to the Indian equities have helped the domestic institutions to absorb all the FPI selling, unlike in 2000 and 2008 market falls. Besides, stronger regulatory measures that resulted in lower issuance of Participatory Notes (PNs) (a kind of derivative instrument on underlying Indian equity stock with obscure beneficial ownership), made sure that the selling was orderly and volatility did not spike. But for these two factors, we could have witnessed much sharper fall and higher volatility in the market, just like 2000 and 2008 when even the benchmark indices fell 10-15% in a single day.

If you are looking for reversal of trend in the market trend, look for a reversal in trends of growth, earnings and liquidity not FPIs flows; for FPI flows are effect not the cause.

The sentiments of greed (risk-taking) and fear (risk-aversion) are two key factors that determine the breadth and depth of the stock market performance over a short term.

In the risk-averse phase usually themes like large cap, defensive, value, dividend yield, etc. lead the market performance. In this scenario, the market breadth is usually narrow; fewer companies raise fresh capital; volatility is low; and market breadth is consistently poor.

On the other hand, in the risk-taking phase, themes like small and midcap, growth, cyclicals, etc. lead the market performance. In an environment supporting risk-taking, usually the market breadth is strong, volumes are above average, and volatility is higher. The primary market is very active in this phase, as a larger number of entrepreneurs look to raise fresh capital for growth and deleveraging.

The year 2024, however, has seen some divergent trends. Several contradictions prevailed, which not only raise doubts about the validity of the current risk-taking phase in the conventional sense, but also present a higher probability of emergence of a severe risk-aversion phase in the near term. For example, consider the following:

·        Small and midcap stocks consistently outperformed the benchmark Nifty throughout the year, despite several risk affecting events like BJP not securing majority in the general elections in India; serious escalation in the Middle East Asia geopolitics; outcome of presidential elections in the US threatening a full-scale tariff war; growth slowing materially in Europe, China and India; sticky inflation restricting global easing cycle; corporate earnings failing to meet expectations etc.

·         The promoters raised over Rs three trillion through initial public offerings (IPO), qualified institutional placements (QIP), and rights issues. However, most of the QIP and rights issue money was used to deleverage the balance sheets rather than expanding capacities – usually a sign of risk-aversion. Even many of the IPOs were 'offer for sale', where the promoters diluted their stakes.

·         Foreign portfolio investors have been net sellers in Indian equities in the year 2024. In the secondary market, FPIs sold over INR 1.1 trillion worth of equities in 2024. However, they bought almost a similar amount in the primary market. The share of the Indian listed market capitalization owned by FPIs fell to ~16%, the lowest level in a decade. The domestic institutional investors however purchased over INR 5.1 trillion worth of equities in the secondary market. The share of the market capitalization owned by the household investors increased to the highest level in the past 15 years.

Historically, the correlation of FPIs’ net flows and Nifty returns in a given year has been poor; but the rise of household share in stock ownership has mostly led to a risk-aversion phase in the markets.

·         Despite significant outperformance of the small and midcap stocks, the market breadth and overall traded quantity has not been supportive of a risk-taking trend. In the 6 out of first 11 months of 2024, market breadth has been negative. Overall, the market breadth is neutral. The traded quantity has been mostly below average in the last six months.

·        The implied volatility has been mostly moderate to low, except for a brief spike in May 2024 (election month), usually not a sign of a risk-taking phase.

 

With the conclusion of the US elections, most of the noteworthy events for the current year 2024 are over. Though some traders may be looking forward to 23^rd November (Assembly election results), 6^th December (RBI’s MPC policy statement) and 18^th December (FOMC policy statement), these events are not expected to make any material change in the market sentiments.

·         In the absence of any foreseeable major event, the markets are in maintenance mode for the past couple of weeks.

·         Benchmark indices are consolidating in a narrow range, just keeping the day traders busy.

·         Broader markets are carrying out the process of clearance: the stocks that crossed the red line and strayed into bubble territory are being punished and dragged back to their right place.

·         The stocks that have been underperforming (or are likely to underperform) due to macro conditions, are being assigned lower weights and stocks performing (or likely to perform) strong are being promoted to top order.

·         Traders and investors who became greedy and traded beyond their financial capacity, are being taught some important lessons. They are learning how to balance the sentiments of greed and fear, manage risk and reign return expectations.

The current state of affairs of the Indian markets could be summarized as follows:

Nifty YTD2024: Decent performance, but lags alternatives

Indian stocks have delivered a decent performance YTD2024. The benchmark Nifty50 has gained over 11%; whereas Nifty500 (16.4%), Nifty Smallcap100 (21.1%) and Nifty Midcap100 (21.2%) have delivered much better returns. Media (-6%), FMCG (0.7%), Private Banks (+1.7%) are the sectors that have underperformed the benchmark indices. Pharma (33.6%), Auto (+26.5%), Realty (+25%) are some of the notable outperformers.

However, if we compare the YTD2024 returns yielded by Gilt funds (~10%) or Gold Funds (~20%), Nifty50 returns appear disappointing.

Globally, Nifty50 has been one of the best performing emerging market indices, though it lagged the major markets like the US (S&P 500 +26%), Japan (Nikkei +18%), China (+16%). Nifty50 outperformed Europe (STOXX600 7%), Indonesia (0.5%) Brazil (-3%), and South Korea (-5%), etc.

Foreign investors trim equity stakes to the lowest since GFC

Net YTD2024 FPI inflows in the Indian markets is over Rs one trillion. However, they have been net sellers in equities to the tune of Rs190.6bn.

What has bothered most of the market participants is the net selling in secondary equity markets to the tune of Rs 1.06 trn. Out of this Rs876bn worth of sale occurred in the month of October alone.

With this selling, FPIs have reduced their stake in Indian equities below 17%, from a high of over 20% in pre Covid period. The current stake of FPIs in the Indian equities is the lowest since the global financial crisis (2008-09).

 

Market breadth worsening

Despite the sharp outperformance of the broader market indices, overall market breadth has been dismal YTD2024. In particular, the breadth has been worsening consistently since June 2024.

 

Volumes shrinking

The level of activity in the Indian stock markets has declined in the recent months. The traded value and the quantity of shares traded have declined much below average. This may imply the participation of non-institutional investors/traders in the cash equity market has declined.

 

Market cap at 136% of GDP

The market capitalization of India crossed the US$5 trn mark in 2024. Presently, India market capitalization contributes ~4.25% of the global market capitalization, the highest ever level. For context, in the past two decades, on an average India’s share in the global market capitalization has been close to 2.5%. At the present level, India’s market capitalization is over 135% of the FY2025e GDP, against a 10 year average of 85%.

1HFY25 Earnings growth for Nifty50 companies has been one of the worst in several quarters. As per some brokerages, about two third of sectors are trading at a premium to their historical valuations.

Orderly weakening of USDINR, bonds stable

USDINR weakened 1.5% YDT2024 to its lowest ever level of Rs84.4/USD. The decline has been orderly and well managed. The INR resilience has been remarkable considering that the RBI has been accumulating USD and also buying Gold; CAD has started to worsen, inflation has been sticky and fiscal deficit has remained elevated.

The benchmark bond yields have also eased 6-7% YTD2024, in tandem with the global trends. The bond markets have been very stable and have not shown any sign of jitteriness during general elections, escalation in the Middle East Asia, and recent sharp rise in the US benchmark yields.

Overall, the markets appear stable with no sign of panic or turbulence. The ongoing corrective phase might last for a few more months and add to the inherent strength of the Indian markets, as the excesses of the past get erased and valuations normalize. 

Equities – A year of consolidation

The Indian equities consolidated the gains made during 2021 and are ending the year 2022 with marginal gains; unlike other major global markets which gave up most of the gains made during the year 2021. Considering the global economic, geopolitical and financial conditions this is a remarkable performance.

• The benchmark Nifty50 and Nifty Midcap 100 are ending the year with ~5% gain; though Nifty Small 100 has lost 2022YTD 11%. The market breadth has been marginally negative; and volumes below average.
• Nifty has now given positive returns in 9 out of the previous 10 years; with 2022 being the seventh consecutive year of positive return.
• Nifty averaged 17240 YTD2022, 8% higher than the average of previous year. This implies much better returns for the SIP investors.
• For long term buy and hold investors, five year rolling CAGR in 2022 is ~11.6%, which is close to 2016-2022 average. Five year absolute Nifty return in 2022 is ~73%, also close to 2016-2022 average.
• July 2022 was the best month of the year for markets. In July Nifty gained 8.7%; the aggregate return for the rest of 11 months is -3.7%.
• Smallcap stocks underperformed the benchmark Nifty for YTD2022; however on a 3yr basis, midcap and smallcap are still outperforming the benchmark materially. The newly introduced category of Multicap funds is the best performer YTD2022; while on 3, 5 and 10 yr basis smallcap funds are outperforming.
• Foreign investors have been net sellers in the Indian equities (secondary market) to the tune of Rs 1.46trn; while the domestic institutions were net buyers of Rs2.63trn; resulting in a net positive institutional flow of Rs1.17trn during YTD2022. Contrary to popular perception, the Nifty movement led the institutional flows and vice versa was not true.
• Sector wise, PSU banks (+71%) were clear leaders, outperforming all other sectors by large margin. Consumers, Auto, Energy and Metals were other notable outperformers. IT Services, Pharma and Realty have been notable underperformers YTD2022.
• Nifty Bank (+22%) has been a clear leader.
• Presently, technically Nifty is placed in neutral territory, close to 50 EDMA with RSI close to comfortable 44 and short term momentum indicators in buy zone.

Debt and Currency – USDINR weakens, yield curve higher and flatter

• USDINR (-6.1%) weakened YTD2022; while EURINR (+2.6%); JPYINR (+9.6%) were stronger.
• The Indian yield curve shifted sharply higher; though Indian bonds performed much better than their developed economy peers. RBI hiked the policy repo rate by 225bps during the year. However, the most notable feature of the Indian debt market was withdrawal of excess liquidity and consequent sharp rise in overnight and short term rates.